Engine Hours and Aircraft Value
Used aircraft values are constantly in flux. Depending on a variety of factors, the laws of supply-and-demand force the prices of vintage aircraft up and down on a continual basis. Many aircraft owners tend not to focus on these price fluctuations in the market, usually hiding behind the assumption that they either, a.) will never sell their aircraft, or; b.) will not sell their aircraft anytime in the immediate future.
This ignorance on the market value of the owner's aircraft is not necessarily a bad thing. You do not check the market value of your home on a daily basis, either. In fact, many financial advisors who work with clients with assets in liquid markets usually advise their clients to avoid the urge of consistently checking the value of their portfolio frequently. By not looking at the daily fluctuations, investors are less likely to pull out of investments during times of distress, and give the long term investment goal the front seat position, instead.
Aircraft, just like a home or other financial product, is an investment. Very few owners consider themselves to be the ones that will send their aircraft to the junkyard for scrap. And, unlike a car, airplane's have (for better or worse) an almost indefinite lifespan. This is starting to change with the introduction of composite airframe construction, and fatigue life limits associated with the certification of these designs, but GA airframe lifespans still far exceed what a single owner will put on them.
Owners expect that their aircraft will hold its value over their tenure of ownership. The watchmakers at Patek Phillipe capture the concept of aircraft ownership perfectly through the lens of owning a well made watch: "You never truly own a Patek Phillipe, you merely look after it for the next generation." By this token, you never truly own your aircraft. Instead, you look after it for the next owner (generation).
As with any investment, it would be imprudent for an investor to dive into it without doing their due diligence to ensure that their money will work hard for them over the expected life of the product. If I were to come to you and say that I am willing to sell an illiquid investment to you at an interest rate of .2% whereas someone else approached you at the same time with an investment of 3%, assuming our credit ratings are the same, you would opt for the 3% option. Going with the .2% option would reduce the operating interest you could be earning by 2.7%, which is unacceptable to you. You worked hard for your money, and you expect it to work hard for you.
The first step to investing in something is to independently derive a product valuation that is both appropriate for your given budget, as well as suitable based on the return that you expect. Plenty of people, especially airplane brokers and salesmen, claim to understand the airplane market and current pricing. Some potential owners also take center stage in this effort, compiling aircraft prices, and muddling through the variety of modifications made over the years and developing the price impacts each individual modification makes.
Before getting into those details, however, owners should develop a firm idea of the pricing of their target aircraft. The breakdown of that pricing into two distinct categories includes:
- Engine - This includes almost everything firewall forward, the engine and engine driven accessories. For our discussion, however, we'll say that the propeller belongs in group number 2;
- Airframe - Everything not in group number one, including the propeller.
Combined, the items from group one and group two above constitute every part of the aircraft, and equate to the total value of the aircraft. At this point, it is not important to consider different avionics, interior, paint, TBO, or any of those things. Instead, the only important aspect to understand is that prices are not pulled from thin air, and are not determined by an owner's sentimental value attached to the aircraft. An airplane is, just like any other product, only worth what equipment it is built out of and what people are willing to pay for that equipment.
For the same year of an aircraft, the value of the airframe components will largely be similar between examples. There will be minor variations by paint, avionics, interior, etc., but the net price of those components can pale in comparison to the value of the engine included with the aircraft.
The chart below shows an example of the current Cessna 172 market ranging up to the year 1980 to avoid price inflation evident in the newer market aircraft. On the x-axis is is the TBO of the various aircraft as a percentage of the manufacturer limit. This removes any ambiguity between the Continental O-300 and Lycoming O-320 examples. The y-axis represents the market price of the aircraft, which was determined by taking 10% off the asking price of the seller. Any outliers were removed from the data. (Almost all of the outliers were aircraft with low time engines with extravagently huge price tags, or high time engines with a large price tag. Few outliers were found from underpriced examples. There were a significant number of aircraft that were outliers as determined using traditional statistics. This, in our opinion, reflects the large numbers of owners and brokers listing unrealistic prices for their aircraft. We assume these examples will remain on the market for (their owners) a depressingly long time.)
As would be expected, the trend shows a decrease in the value of aircraft as the engine ages down to a certain limit value. This limit, for the Cessna 172 market, is currently around $23,000. This represents the group #2 (airframe) items. So, if we were looking to either buy or sell a 172 without anything firewall forward (no group #1 items), we would be looking at a price around $23,000. With a standard deviation around $1300, a reasonable value for our engine-less example would be in the range between $21,700 and $24,300. The range from $20,400 to $21,700 would be considered a cheap price, and $24,300 to $25,600 would be an expensive price. Anything else, considering the market, would be an unreasonable price that would signify expensive airframe issues that impact the potential airworthiness. This price map is shown graphically below, with the numbers in thousands.
The chart below is the Engine Hours vs. Aircraft Price chart from above with a price floor inserted to represent the minimum expected price of a Cessna 172, regardless of the engine (or lack thereof) installed, at the price of $23,000.
Obviously, the rest of the price of the aircraft can be considered the result of group #1 items, all those things firewall forward. The trend line created to fit the data shows the exponential nature of the price variation as the engine ages, but is this what we expect to happen? Yes.
By attacking the value of the aircraft as the arithmetic sum of the value of its airframe and engine, it is possible to individually analyze the effect of both of the components as independent factors.
As discussed in previous articles, aircraft engine survival closely mimics human mortality laws: infant mortality, then a substantial drop in the risk of failure through middle age, and a gradual increase in the probability of failure during the geriatric stage of life. There are no vertical jumps in the probability of failure throughout the life of the engine. Just because you have reached your engine manufacturer's TBO limitation does not impact the probability of engine failure beyond what the general trend is. Authors, maintenance personnel, and pilots have hammered this issue. So have we. One of the major corporate positions we defend is that operation beyond TBO is not necessarily dangerous, but needs to be done with regard to a comprehensive trend monitoring system. Nothing comes of guessing and hoping.
Because the likelihood of an engine failure (probability distribution function) is not a linear function, the price expectation for an engine cannot be expected to be a linear function, either. In fact, our expectation of an engine's market value based on its age run contrary to what most people believe. The general consensus is that a new engine is worth the max an engine can be worth: the market price of an overhaul. That might be true for the owner completing the overhaul, but to the outside market, a freshly overhauled engine carries a value less than the overhaul value (We ignore the variations in overhaul price based upon the source of the overhaul. It is assumed that all owners use reputable shops for their overhaul). If an aircraft is sold with an engine before a successful break-in, the seller will have to compensate the potential buyer for the possible risk of an unsuccessful overhaul.
Once the newly overhauled engine has a couple of hours on it (usually constituting the break-in), the price should theoretically grow as the engine proves that it was, in fact, built correctly and had a successful run-in. Upon reaching the max value upon completion of the run-in, then the engine experiences an exponential decrease in value associated with any "new" product. This exponential decrease is evident in our Aircraft Price vs. Engine Age chart.
In practice, however, this decrease in price assciated with a freshly overhauled engine is not of any importance when considering the price. Instead of creating small price fluctuations, it manifests itself in the form of a decreased marketability of the aircraft to potential buyers who don't want to accept the burden of an overhauled engine from a source that is not their own. This is why many owners with burned out engines decide to just market the aircraft with the old engine: a potential buyer can simply price an engine overhaul into their bid price, and then complete the work on their schedule, budget, and at their preferred shop.
So, we'll ignore engines that have not been run-in for this article, seeing how they represent a small minority of the market. Older engines form a much more important piece of the puzzle concerning the valuation of aircraft with respect to the engine, anyway.
The value of an engine can range from zero, if the engine is burned out, up to about $35,000 new in a 172. Below is a finalized rendering of our chart, showing the arithmetic sum of both the airframe and engine components, and how they fit together to form the net value of the airplane in the current market.
As discussed, the beginning of the engine's life through break-in represents no large decrease in the value of the aircraft. Only upon completion of the break-in period does the exponential decrease in value start to occur down to the limit of approximately $23,000, which is the value of the airframe.
It is interesting to note the value of the aircraft at x=100% of the TBO. At the manufacturer listed TBO, the engine of the aircraft still maintains a certain amount of value, around (in this case) $7,000 (which happens to be the going rate for a working engine core!). Only when the aircraft engine reaches the approximate age of 150% of the TBO does the value of the aircraft drop near to that of only the airframe components.
This is one of the reasons Gemco's "Fly-On" program lets owners operate up to 150% of the manufacturer TBO. We let owners utilize the entirety of the life of their engine, and then, once the engine value drops to zero and the aircraft value becomes equal to the airframe value, we let owners utilize the equity of their program to overhaul their engine. There is no reason a well cared for, and operated, engine should not be able to truly utilize the entirety of its operational potential. If care has been taken in engine operation, then operation to the 150% mark can be successfully done, and still have a viable core. This puts the owner over $7000 ahead of his or her non-Gemco owner.
The interesting thing about this chart, especially in how it relates to Gemco's Overhaul Savings program is the variation on how you pay. Gemco's programs are a pay-as-you-go program. This means that while the aircraft engine decreases value in a non-linear (exponential) rate, your Gemco program moves linearly. This is why it is critical to start your engine on a Gemco program as soon as possible after overhaul. By paying in for the first 50-100 hours during break-in, your linear payoff offsets the increased decline of value during the initial part of the exponential section. By waiting until past the break-in period, the linear Gemco pay-in will take longer to offset the exponential decrease in engine value.
This is certainly not to say that if your engine is mid-life that Gemco's program's will not work for you. On the contrary, getting started at any stage is the most important step, especially if you are considering holding your aircraft until overhaul. And, taking advantage of Gemco's buy-in and pro-rata options, you'll probably find that you make out much better enrolling in the Overhaul Savings program later compared to never.
Aircraft brokers try to make aircraft pricing seem like a science owners can't understand. But, by taking a few moments to break down the aircraft into digestible parts, it can be seen that an aircraft is worth only what its individual components are worth. Our model in no way offers potential buyers or sellers insight into the future price movement of aircraft. Indeed, the price of the Cessna 172 could go up in future years, stay the same, or decline. All that we can say is that our chart only addresses the current market, and will have to be adapted on a continual basis to best represent the market as it actually lies.
Sadly, however, many owners who are looking to sell, along with prospective buyers, fail to do their research. Many airplanes fell well outside in outlier territory, with the majority of outliers skewed towards the upward price bracket. Sorry folks, a 1968 Cessna 172 just is not worth $80,000. It doesn't matter what type of avionics are installed, quality of seat leather, or newness of paint. Many times, all that money you've put into your aircraft will disappear when reselling. Prospective owners have their own needs, and view much of the maintenance done not as improvements, but routine work required to keep the bird flying.
Owning and operating an aircraft entails being realistic about your expectations. Airplanes, like most cars, are not investments. Many people get into classic cars thinking of turning a profit via the appreciation of their car. But after factoring in storage, insurance, maintenance, and care- taking, appreciation would have to run in the double digit percentages per year to justify the expense of the investment. The same goes with airplanes. Thinking of it only as an investment is a sure way to disappoint yourself when it comes time to resell. With the investment mindset, you'll probably price your plane right out of the market, and have to wait years to sell the aircraft well below your intended price.
It falls on both owners, and prospective buyers to keep the used market in check. Already many people are starting to observe that the market for commonplace single engine aircraft (like Cessna and Piper) are showing signs of overheating. When it comes down to reselling (which will happen), it will be a matter of the most competitive aircraft on the market. This means the best value will sell first. Owners who are trying to sell an aircraft with an engine near TBO will struggle to compete with aircraft that come with an engine program designed to address the exponential decrease in value that comes from age.
If you're looking to buy an aircraft, we invite you to contact Gemco during the purchase process so we can help you understand the liability you might be buying, and what the best methods are available to deal with the underlying investment issues. Flying should be fun, if not valuable. Your job is to fly, our job is to help make it more affordable and predictable.